Both presidential candidates said warm & fuzzy things about crypto this year, but Donald Trump went all-in on courting the crypto vote, even pledging to launch a “national crypto reserve.” Anyway, with the end of the SEC’s unrelenting onslaught in sight, crypto industry backers believe that Trump’s return to power will make 2025 their “Year of Jubilee.”
Earlier this year, the crypto industry achieved a milestone when the House passed the Financial Innovation and Technology Act. However, prior to the election, that legislation faced dim prospects in the Senate. This excerpt from a recent Wired article suggests that the industry’s investment in the 2024 election may have fundamentally altered the legislative landscape:
During the 2024 cycle, crypto firms donated hundreds of millions of dollars to three crypto-friendly super political action committees (PACs)—Fairshake, Protect Progress, and Defend American Jobs—the aim of which was to support crypto-friendly congressional candidates and dislodge the industry’s most vociferous critics.
The fruits of that investment became clear on Wednesday. In Ohio, incumbent Democratic senator Sherrod Brown, who is depicted as an arch-villain in crypto circles, was unseated by Republican Bernie Moreno. Through Defend American Jobs, the crypto industry spent more than $40 million in support of Moreno. Meanwhile, according to Stand With Crypto, a nonprofit pushing for bespoke crypto regulation in the US, more than 250 pro-crypto representatives have been elected to Congress.
The end of the SEC’s crackdown on crypto would be a big deal, but the crypto industry has long sought federal legislation to establish a regulatory scheme for the industry. With Republicans likely to control both the House and the Senate, the industry’s backers may be poised to finally achieve that objective.
While the crypto industry’s ultimate path to becoming a “real boy” likely lies in legislation authorizing the creation of a comprehensive regulatory framework, this Davis Polk memo provides the next SEC Chair with a “to do” list of actions that the memo says will get the regulatory ball rolling. Here’s an excerpt with some specifics:
Withdraw SAB 121, the 2022 accounting policy that requires a public company with responsibility for safeguarding crypto assets to recognize liabilities for those assets on its balance sheet. While there may be some logic to this staff-promulgated directive, the SEC is not the nation’s accounting standard-setter. That task falls to the FASB, who approaches its remit thoughtfully and with due process and broad public input as opposed to simply announcing a full-blown major GAAP policy change via press release.
Withdraw the Framework for “Investment Contract” Analysis of Digital Assets. Although well-intentioned, this 2019 staff effort has created years of confusion over the securities status of individual crypto assets. Is the crypto asset itself a security, or is it instead only a thing sold as part of a broader securities transaction? The answer to this basic question has a profound impact on all parties active in the crypto markets. But with more than sixty suggested “considerations” that supposedly make a crypto asset more or less likely to be a security, the guidance has proven impossible to interpret and apply in a manner that yields consistent results. What could help replace this guidance? See #6 below.
Place a moratorium on enforcement threats against intermediaries based on activities involving tokens they did not issue. This goes hand-in-hand with withdrawing the staff’s Framework. If a trading platform, market maker or other intermediary did not itself issue a particular crypto asset, then the intermediary did not deploy the token in a primary capital-raising transaction and its activities do not implicate the fundamental policy concerns of the Securities Act of 1933. Until we have designed and implemented a thoughtful regulatory solution, the SEC should stop harassing businesses that are meeting this vast market’s daily liquidity needs.
Stop holding up crypto company IPOs. The chair should direct the Corporation Finance staff to treat companies in the crypto asset industry trying to go public just like companies in every other industry—and provide comments on a regular timetable that will facilitate the company’s ability to go public in 3 to 4 months, rather than 3 to 4 years (or never).
Other recommendations include exercising prosecutorial discretion for registration violations not involving fraud and publishing the Staff’s Howey analysis for bitcoin and ether.
Our colleague Meaghan Nelson has been blogging up a storm over on “The Mentor Blog”, which is available to TheCorporateCounsel.net members. Since she started in late September, Meaghan’s been sharing insights and advice to help you move forward in your career based on her own diverse experiences in the legal profession. For example, here’s Meaghan’s four-part series on how to network:
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With the election in the rear-view mirror, many people are speculating about the potential implications of Trump 2.0 for the SEC and securities regulation in general. Some of these are pretty obvious – Donald Trump promised that Gary Gensler would be a goner “on day one,” and he seems likely to depart even before Trump takes office. The SEC’s climate disclosure rules also are almost certainly on the chopping block, and its long-delayed proposals on human capital management and corporate board diversity disclosures will probably never see the light of day.
Those political footballs may garner most of the headlines during the next few months, but what about the Trump Administration’s approach to more “meat & potatoes” securities law issues? Even though Donald Trump claims to know nothing about Project 2025, plenty of others in his orbit do, and it seems likely that many of the policy objectives laid out in that document will be on the agenda when it comes to securities regulation. For example, in the area of capital formation, the Project 2025 document calls for the SEC to take, among others, the following actions:
– Simplify and streamline Regulation A (the small issues exemption) and Regulation CF (crowdfunding) and preempt blue sky registration and qualification requirements for all primary and secondary Regulation A offerings.
– Either democratize access to private offerings by broadening the definition of accredited investor for purposes of Regulation D or eliminate the accredited investor restriction altogether.
– Allow traditional self-certification of accredited investor status for all Regulation D Rule 506 offerings.
– Exempt small micro-offerings from registration requirements.
– Exempt small and intermittent finders from broker–dealer registration requirements and provide a simplified registration process for private placement brokers.
Project 2025 also makes several recommendations aimed at the way the SEC is administered, including ensuring that any three commissioners have the ability to place an item on the agency’s agenda, eliminating all SEC administrative proceedings other than stop orders, or allowing respondents to elect whether their cases will be adjudicated by an ALJ or an Article III federal court, and ending the practice of delegating authority to the Staff to initiate an enforcement proceeding.
These would all be significant changes, but Project 2025’s legislative agenda when it comes to the securities laws is even more ambitious. In addition to proposing a comprehensive overhaul of the federal securities laws, it calls for Congress to eliminate the PCAOB and FINRA and consolidate their functions within the SEC, eliminate Dodd-Frank’s conflict minerals, mine safety, resource extraction and pay ratio disclosure requirements, and ban the SEC from requiring a variety of ESG-related disclosures.
With Gary Gensler on the way out, speculation quickly turned to who would become the next SEC chair? This excerpt from a recent Bloomberg Law article identifies the leading candidates:
Richard Farley, a partner at Kramer Levin Naftalis & Frankel, and Kirkland & Ellis partner Norm Champare among contenders to replace Gary Gensler as chair of the US Securities and Exchange Commission, according to people with knowledge of the matter.
Robinhood Markets Inc. legal chief Dan Gallagher, current SEC Commissioner Mark Uyeda and Heath Tarbert, a former chairman of the Commodity Futures Trading Commission, are also among those being considered for the job, said other people with knowledge of the matter, who asked not to be identified because the information isn’t public.
Also in contention are former SEC Commissioner Paul Atkins and Robert Stebbins, a partner at Willkie Farr & Gallagher, some of the people said.
Commissioner Hester Peirce’s name has also surfaced, but she reportedly isn’t interested in the position and plans to leave the SEC when her current term expires.
Personally, I find it encouraging that the list of potential SEC chairs is composed mainly of people with significant private practice experience. One of the things that’s bothered me about the SEC’s willingness to put forward sweeping disclosure rule proposals in recent years is how few of the people deciding whether to adopt those rules have spent more than a token amount of time in their careers preparing or reviewing SEC filings.
Speaking of SEC Chairs, it looks like former SEC Chair Jay Clayton is on the short list to become Secretary of the Treasury.
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On Tuesday, the Supreme Court heard oral arguments in Facebook, Inc. v. Amalgamated Bank. The outcome of this case – as well as another biggie teed up for oral argument next week – could affect the way we draft risk factors and cautionary disclaimers.
Here, as Meredith previewed a few months ago, the company is facing allegations that the “cyber & data privacy” risk factor in its 2016 Form 10-K was misleading because it didn’t disclose that Cambridge Analytica had already improperly collected and harvested user data. “Hypothetical risk factors” are a type of disclosure that the SEC has been kvetching about since… at least 2019, when it settled an enforcement action with Facebook/Meta on this same issue, and as recently as last month when it settled an enforcement action with a SolarWinds victim under a similar theory of “half-truth” liability.
The more recent action was accompanied by a joint dissent from Commissioners Peirce and Uyeda that pointed out that updating risk factors for risks that have materialized is not always straightforward. Based on the tone of the oral argument in the Facebook case, it sounds like at least a few of the Justices share similar views. This WaPo article recaps:
In a lively argument, with hypotheticals involving the potential dangers posed by meteor strikes and space trash, at least three conservative justices seemed sympathetic to Facebook’s arguments that it had not misled investors and that its disclosures were forward looking. The court’s three liberal justices, in contrast, expressed support for the view of investors behind the lawsuit, who are backed in the case by the Biden administration.
Chief Justice John G. Roberts Jr. seemed concerned about the implications for public companies of adopting the position of the investors, calling it “a real expansion of the disclosure obligation.” Justices Neil M. Gorsuch and Brett M. Kavanaugh said the Securities and Exchange Commission could be more explicit if it wanted to require companies to report relevant past events.
I was a little surprised by one exchange from the oral argument. I am no Constitutional law expert, but after the Court’s very recent decision in Loper Bright that agencies should stay in their lane, I didn’t expect a Justice to suggest that the SEC should handle this issue through rulemaking. From WaPo:
“Why can’t the SEC just write a reg?” Kavanaugh asked. “Why does the judiciary have to walk the plank on this and answer the question when the SEC could do it?”
Maybe this was a trick question, in which case I’d like to submit a guess that this rule already exists, at least to some extent, by way of Item 101 and Item 303. Clearly, there are a lot of open questions here. The biggest one being, who would have predicted we’d still be talking about Cambridge Analytica during Election Week 2024? Lucky us.
The PCAOB recently added a “Fraud Risk Resources” page to its website. While the materials on this page are intended to assist auditors in complying with their obligations to consider fraud during the course of an audit, the information the PCAOB provides there is also likely to be of assistance to audit committees in understanding those obligations and their implications for the audit process. Here’s an excerpt from the discussion of the auditor’s obligations with respect to the risk assessment process:
PCAOB standards require auditors to perform risk assessment procedures that are sufficient to provide a reasonable basis for assessing the risks of material misstatement, whether due to error or fraud, and designing further audit procedures. The risk assessment procedures required by PCAOB standards are intended to direct the auditor to identify external and company-specific factors that affect risks due to error or fraud, such as, fraud risk factors, for example, factors that create pressures to manipulate the financial statements.
Some required risk assessment procedures and procedures performed when identifying and assessing risks are directed specifically at risks of material misstatement due to fraud (“fraud risks”), such as:
– Conducting a discussion among the engagement team members of the potential for material misstatement due to fraud;
– Inquiring of the audit committee, management, internal auditors, and others about fraud risks;
– Performing analytical procedures relating to revenue for the purpose of identifying unusual or unexpected relationships involving revenue accounts that might indicate a material misstatement, including material misstatement due to fraud;
– Considering factors relevant to identifying fraud risks, including in particular, fraud risks related to improper revenue recognition, management override of controls, and risk that fraud could be perpetrated or concealed through omission of disclosures or presentation of incomplete or inaccurate disclosures; and
– Evaluating the design of controls that address fraud risks.
A substantial number of the other required risk assessment procedures also can provide information that is relevant to the auditor’s consideration of fraud.
Other topics addressed by the PCAOB here include acceptance and retention of audit engagements, audit planning, responses to the risk of material misstatements, and fraud considerations in ICFR audits.
I’m still a little jet lagged after returning from our conferences in San Francisco, and it’s been a slow news week, so I was delighted to find a recent Florida federal district court decision addressing one of my favorite topics – celebrities who get themselves sideways with the federal securities laws. In Harper v. O’Neal, (SD Fla. 8/24), the plaintiffs alleged that NBA Hall of Famer Shaquille O’Neal was liable for losses suffered by investors in the Astrals Project, a business venture involving an investment in NFTs that could be used in a virtual world in which users could socialize, play, and interact with other users (sounds similar to Method Man’s NFT project).
Anyway, after FTX blew up, the Astrals Project apparently fell apart, and the plaintiffs sued Shaq, who they allege was the “driving force” behind the project and was actively involved in promoting it through various social media channels. Shaq and the other defendants argued that this wasn’t enough for him to be considered a “seller” for purposes of Section 12(a) of the Securities Act, but the Court disagreed:
Defendants argue that the Amended Complaint fails to allege that Defendant O’Neal “successfully solicited” Astrals and Galaxy tokens to Plaintiffs, 1et alone that he did so to further his or the Astrals Project’s financial interests. Further, Defendants argue that Defendant O’Neal did not directly sell or persuade Plaintiffs to buy Astrals products. However, as cited above, the Wildes panel specifically clarified that solicitation need not be “personal” or “targeted” to trigger liability. See Wildes, 25 F.4th at 1346.
The Complaint alleges that O’Neal, in a video, claimed that the Astrals team would not’ stop until the price of Astrals NFTS reached thirty $SOL and urged investors to “[h]op on the wave before it’s (sic) too late.” Defendant O’Neal acted like the Wildes promotors that urged people to people to buy BitConnect coins in online videos. Wildes, 25 F.4th at 1346.
O’Neal also personally invited fans to an Astrals Discord channel, where he interacted directly with them on a daily basis, reassuring investors that the project would grow. Lastly, Defendant O’Neal’s own financial interests were in mind. The Complaint states that Defendant O’Neal was one of the founders of the Astrals Project. Further, the Astrals Project was his brainchild that he personally developed, and his son was named head of “Investor Relations.” Therefore, Plaintiffs have met the definition of a seller and thus alleged enough to state a Section 12 claim against Defendant.
However, the news wasn’t all bad for Shaq. Despite his status as an alleged founder of the Astrals Project, the Court held that he should not be regarded as a control person under Section 15 of the Securities Act, because the plaintiffs failed to plead how or in what way he used that status to direct the management and policies of the Astrals Project.
Okay, I know this is supposed to be a blog devoted to securities law and corporate governance topics, but there’s a 0% chance that I’m not going to blog about last night’s ALCS game, also known as “The Greatest Baseball Game I’ve Ever Seen.” I can’t come up with adequate words to describe the Cleveland Guardians’ incredible extra innings victory over the New York Yankees, so I’ll just let the great Tom Hamilton do the talking for me:
Yes, Yankee fans (and your $300+ million payroll), I know they’re still down 2-1, and like every Cleveland fan, I know that Heywood Broun was right when he wrote that “the tragedy of life is not that man loses, but that he almost wins.” Still, whatever happens, we’ll always have Game 3.
